Home equity loans, HELOCs available again

Home equity loans and lines of credit are making a comeback. Homeowners are tapping their equity with these loans as property values go up and mortgage rates rise.

Cash-out refis decline

Not long ago, homeowners who had some equity often used cash-out refinances to pay for home remodeling, to consolidate debt or pay for a child's school tuition. But that was when mortgage rates were lower. As mortgage interest rates increase, making refinancing less attractive, many are now considering getting a HELOC or a home equity loan.

Home equity loan

A second mortgage for a fixed amount, at a fixed interest rate, to be repaid over a set period.

Home equity line of credit (HELOC)

A second mortgage with a revolving balance, like a credit card, with an interest rate that varies with the prime rate. Pronounced HE-lock.

Home equity lending activity increased last year for the first time since 2006, by 26 percent, according to a recent report by Black Knight Financial Services. But the volume is still about 90 percent lower than in 2006.

"We have seen an increase in our applications for equity loans and a significant increase year over year for lines of credit," says Cyndee Kendall, regional sales manager at Bank of the West's northern California division.

Having enough equity for a loan

Lenders are returning to the equity lending business and even loosening their standards a bit, especially after they lost a big chunk of their refinance business when mortgage rates rose.

Market value - All mortgage debt = Equity

For example: The Smiths bought a house four years ago. Today, it’s worth $200,000 and they owe $120,000 on the mortgage. Their equity is:

One of the main requirements to qualify for a home equity loan these days is, of course, having equity in the home. During the wild days of lending, you could cash out up to 110 percent of the value of your home. You won't find that today. But lenders generally allow homeowners to borrow 80 percent to 90 percent of the value of their homes. A few let homeowners tap into all of their equity.

Credit scoring

As for credit scores, the requirements vary greatly by lender and type of loan.

"Our minimum credit score is 620 (for a home equity loan), but the market is all over the place," says Gary Harman, vice president of home equity for Discover Financial Services. "If you wanted a HELOC, you would need a better score."

Mike Kinane, retail lending senior product manager for TD Bank, says homeowners generally need a minimum credit score of 660 to 680 for equity loans. But that depends on other factors, such as how much equity they have and their income compared with their monthly debt obligations.

Debt-to-income ratio

Generally, it helps if your debt-to-income ratio, or DTI, is in the low 40s, Kinane says. But the lender's decision is based on a combination of factors, in which equity plays a major role.

Debt-to-income ratio

Percentage of monthly income that is spent on debt payments, including mortgages, student loans, auto loans, minimum credit card payments and child support.

Debt payments / income

For example: Jessie and Pat together earn $10,000 a month. Their total debt payments are $3,800 a month. Their debt-to-income ratio is 38 percent.

$3,800 / $10,000 = 0.38

"There's rarely the perfect applicant with the perfect credit," Kinane adds. "If we have an individual that has plenty of equity and slightly higher debt-to-income ratio, we are more likely to make an exception to make that work because the equity is there, so we do use equity to offset other characteristics that might not be as pristine."

Foreclosures and short sales

A previous foreclosure or short sale could hurt the chances of getting an equity loan even if your score is good, Harman says.

"You need to have a good score, responsible prior credit use and good performance in prior mortgages," he explains. "People who went through foreclosure would have a problem even if their scores have rebounded."

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Ask Dr. Don

Dear Dr. Don, I have a variable-rate home equity line of credit, or HELOC, at 2.9 percent. I'd like to convert it to a fixed-rate mortgage. I have 20 years remaining to pay off the home equity line. Would it be beneficial... Read more

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